Tag: Commodities

Just like equities there is an active market for commodities and currencies. Globally, commodities and currencies are much bigger market than equities. 

Just like how shares are bought and sold in the stock market, commodities are bought and sold in the commodity market. A Commodity market is a market where various commodities and their derivatives products are transacted in. A commodity could be any raw material or primary agricultural product that is marketable, that is, it can be bought or sold. It could be wheat, gold, or crude oil, among many others.

Types of commodities traded in India

In general, there are broadly four categories in the commodities market:

• Metals (gold, silver, platinum, copper, among others)
• Energy (crude and heating oil, natural gas and gasoline)
• Agricultural produces like corn, soybeans, wheat, rice, cocoa, coffee, cotton, etc)

The table below gives a list of all the commodities that are traded

Metal	Aluminium, Copper, Lead, Nickel, Sponge Iron, Steel Long (Bhavnagar), Steel Long (Govindgarh), Steel Flat, Tin, Zinc
Bullion	Gold, Gold HNI, Gold M, i-gold, Silver, Silver HNI, Silver M
Fiber	Cotton L Staple, Cotton M Staple, Cotton S Staple, Cotton Yarn, Kapas
Energy	Brent Crude Oil, Crude Oil, Furnace Oil, Natural Gas, M. E. Sour Crude Oil
Spices	Cardamom, Jeera, Pepper, Red Chilli, Turmeric
Plantations	Arecanut, Cashew Kernel, Coffee (Robusta), Rubber
Pulses	Chana, Masur, Yellow Peas
Petrochemicals	HDPE, Polypropylene(PP), PVC
Oil & Oil Seeds	Castor Oil, Castor Seeds, Coconut Cake, Coconut Oil, Cotton Seed, Crude Palm Oil, Groundnut Oil, Kapasia Khalli, Mustard Oil, Mustard Seed (Jaipur), Mustard Seed (Sirsa), RBD Palmolein, Refined Soy Oil, Refined Sunflower Oil, Rice Bran DOC, Rice Bran Refined Oil, Sesame Seed, Soymeal, Soy Bean, Soy Seeds
Cereals	Maize Guargum, Guar Seed, Gurchaku, Mentha Oil, Potato (Agra), Potato (Tarkeshwar), Sugar M-30, Sugar S-30

India has had a long history of commodity trading with its own share of ups and downs, it has, however, grown exponentially, since the introduction of favourable laws.

The derivative market in commodity trading came into operations as a means to protect the buyers and producers from price fluctuations over time. For example, a farmer worried about the future price of his wheat in the market can use a commodity derivative to hedge and mitigate his risk. Similarly, airline companies worried about the price of fuel too can use Oil futures to mitigate this risk. These traders could opt for actual physical delivery of the commodities upon expiry.

Likewise, people who have no exposure in the underlying too could trade in the commodity market to make profits. This type of trader is called a speculator. They participate in order to profit from the volatile price movements. 

Commodities, like any other asset class, are traded in exchanges and regulated by SEBI. 

Commodity Exchanges in India

Just like how the stock market has the BSE and NSE, the commodity exchanges present in India are:

• Multi Commodity Exchange – MCX
• National Commodity and Derivatives Exchange – NCDEX
• National Multi Commodity Exchange – NMCE
• Indian Commodity Exchange – ICEX
• Ace Derivatives Exchange – ACE
• The Universal Commodity Exchange – UCX

The trading of commodities in the commodity market is regulated by SEBI and facilitated by MCX. The MCX provides a platform for trading in stocks. More than 100 commodities are traded in the Indian Commodity futures markets. Gold, Crude Oil, Copper, Nickel etc. are some of the popularly traded commodities. Of the above, the first three are the most popular exchanges with huge volumes of trade activity. 

There are also many new index funds and mutual funds like Gold Exchange Traded funds which can be invested in if one is willing to invest in the commodities market. 

How does the commodity market work?

This can be best explained with the help of an example. Let’s say you bought a silver futures contract on MCX at Rs. 60,000 for every 100gm. The margin of Silver is 3% on the MCX. So basically you will be paying Rs. 1,800 for the silver. Now let’s assume that on the following day, the cost of silver increases to Rs. 63,000 per 100gms. In this case, Rs. 3000 will be credited to your account. But if the price drops to Rs. 57,000 then Rs. 3000 will be debited accordingly.

Benefits of trading in Commodity Market

As with any market investment, the commodities market too has its own share of pros and cons. The pros are increased potential returns, diversification, and an effective hedge against inflation risk. But there also exist a number of disadvantages especially the huge volatility and speculative risk in this market. 

• Diversification – the performance of the commodity market is inversely related to the performance of the stock market. This is because some outside factors like inflation which impacts the stock market may benefit the commodity market since the price of commodities go up when the inflation also goes up. Having investment in this will certainly help protect against risk from the stock market.
• Real Returns – While some goods remain relatively stable, some commodities are extremely volatile. Agriculture commodities for instance will give a good return in case of bad monsoon, similarly at times of war crude oil and gold tends to outperform a other asset class. 
• Margin Trading – When trading in futures, the margin paid in commodity futures is lesser than the margin paid in the stock market exchange. This helps traders benefit from bulk orders and earn larger profits.

Cons of trading in commodity market

• High Risk – Due to its volatility, there is high risk involved in trading as well. If you have invested in a certain commodity and the demand for the commodity changes then that can affect the price and hurt your profits significantly.
• High Leverage – With an average of 3-6 percent as margin, commodities is a highly leveraged market. A wild swing can blow up a traders account easily. 

Commodity Market vs Stock Market – The difference

Here is a quick reference table to chart out the difference between the stock market and the commodity market.

 

Particular	Commodity Market	Equity Trading
Nature of the product	Products that are consumed in everyday life	Stocks or equities that represent ownership
Ownership	Normally ends with the buyer taking the physical product but can also be cash-settled	Owning shares gives you ownership in a company
Duration	Normally traded for very short durations	Can be held for both short and long durations
Purpose	To   speculate  against price fluctuations of the underlying assets	To create long-term wealth and capital appreciation
Volatility	Are extremely volatile	Are less volatile compared to commodity trading
Margin	Are traded on margins and high leverage	Not necessarily traded on margins but has the option to do so
Trading Hours	Trading on the MCX takes place between 9am to 11:55pm	Trading takes place between 9:15am to 3:30pm

Commodity Trading charges

When you open a demat account in the stock market and conduct trades, there are certain charges involved in ensuring that the trade is conducted smoothly. In the same way in commodity trading, there are certain charges given by the DP. Commodities in the commodity are most widely traded in futures and options and hence the charges offered by TradeSmart is given below

 

TradeSmart Charges	MCX Futures	MCX Options
Brokerage	Rs. 15/trade	Rs. 15/trade
STT	Rs. 1000/crore	Rs. 5000/crore
Turnover Charges	Rs. 390/crore	Rs. 2000/crore of premium
GST	18% on (Brokerage + Transaction Charge)	18% on (Brokerage + Transaction Charge)
SEBI charges	Rs 10/Crore (Sebi Fees for MCX Agri Commodities is Rs 1 for Rs 1 Crore turnover)	Rs 10/Crore
Stamp charges	State wise	State wise

How to invest in commodities?

Commodity trading is not the only way to invest in commodities in India. There are other means by which you can get involved in the commodity market and those points are given below.

• Physical commodity
• Commodity ETF
• Commodity Mutual funds
• Commodity options
• Commodity futures

Physical commodity – This refers to actually physically buying the commodity for yourself and keeping it and them selling it in the future. But the main issue here the storage and high logistic costs which will eat into the returns generated later on. Commodities like Gold are still traded this way even today.

Commodity ETF – Commodity Exchange Traded Funds are passively managed funds that invest in physical commodity and futures contracts and are traded on real-time basis. This helps investors in benefitting from the price changes and not worrying about the physical and liquidity issues of the commodity 

Commodity Mutual Funds – These are mutual funds which are invested in the mutual fund ETFs.They offer diversification since fund manager is investing their money in multiple commodities and at the same there is no risk of liquidity of the commodity.

Commodity Options – in the case of commodity options, the buyer has the right to buy but not obligated to execute the contract in the future. In the commodity market, the MCX offers commodity options in Gold, Silver, Crude Oil and Zinc and the NCDEX exchange offers options in soya bean, soya refined oil, guar seed, guar gum, chana etc.

Commodity futures – This is situation where the buyer and seller of the commodity get into a contract to trade the commodity at an agreed price on a pre-determined date in the future. Unlike options, both parties have to honour their contract. Commodity futures are available on petrol, gold, silver, natural gas, wheat etc/

In conclusion

Trading in commodities is a great way to tackle inflation and is a hedge on the stock market since it is inversely related to the stock market. Since it is a highly leveraged market, one should be cautious in trading in commodities. 

 

A Commodity market is a market where various commodities and their derivatives products are transacted in. A commodity could be any raw material or primary agricultural product that is marketable, that is, it can be bought or sold. It could be wheat, gold, or crude oil, among many others. 

A brief history

The Amsterdam Stock Exchange, often considered as the first stock exchange, originated also as a market for the exchange of commodities. Early commodity trades in this market ensued in an open hall and included advanced systems such as contracts, short sales, forward contracts and even options.

At about 1864, in the United States, commodities such as wheat, corn, cattle, and pigs were extensively traded using standard instruments on the Chicago Board of Trade (CBOT), which is the world’s oldest futures and options exchange. Other food-related commodities were added to the Commodity Exchange Act and traded through CBOT in the 1930s and 1940s, the list growing to include rice, mill feeds, butter, eggs, Irish potatoes and soybeans.

Commodity Exchanges in India

Some prominent commodities exchanges have merged or gone out of business in recent years. The majority of exchanges carry a few different commodities, although some specialize in a particular group. For instance, in the United States, there is the Chicago Mercantile Exchange (CME), the New York Mercantile Exchange (NYMEX), the Intercontinental Exchange (ICE) etc.. In Europe, there is the London Metal Exchange (LME) which deals only in metals. 

In India, the most famous exchange to trade in commodities is the Multi Commodity Exchange or MCX followed by National Commodity and Derivatives Exchange or NCDEX. However, there are other exchanges too that facilitate commodity trade. Other exchanges include the Indian Commodity Exchange (ICEX), National Multi Commodity Exchange in India (NMCE).

Common types of commodities traded

 Some of the common types of commodities traded are as follows:

1. Agricultural (e.g. soya, jeera, rice, rubber)
2. Metals (e.g. industrial metals like aluminium, copper, brass and precious metals like gold)
3. Energy (e.g. natural gas, crude oil, coal)

Typically, commodities trades happen as futures contracts which can either be cash-settled or undertaken as physical delivery. 

Who trades in the commodity market?

Speculators, arbitrageurs and traders are found in the commodity market. Typically, a trade in the commodity market is entered into by a hedger who is seeking to mitigate the risk of price fluctuations. For example, business houses dealing in steel trade could make use of the commodity futures market to hedge their risk. 

How to trade in commodity markets?

To invest in a commodities market, you first need to open a trading account with a broker of your choice who is registered with the commodities market. TradeSmart is one such broker that can help you out in this regard. Note that you only need a trading account and not a demat account because in the commodity market you are dealing with actual physical goods which cannot be converted into electronic form. Once you’ve opened a trading account, you can trade in the commodities market in two ways, through a futures contract or options contract.

This is called a derivative contract. They derive the value from the underlying asset which is the actual commodity. When you enter into a contract you enter into an agreement to purchase or sell the underlying asset at a pre-determined price at a future date.

Let’s understand that with an example. Suppose you purchase a futures contract of 20 gms of Gold for Rs. 70,000. This means that now you’ve agreed to buy the 20gms of gold at a future date. During this period, you have the option to hold on to the contract or sell it to others depending on the price fluctuations. If you hold onto the contract till the expiry then the seller would be obligated to physically deliver the specified quantity to you.

 

Types of traders in the commodity market

There are three main types of participants in the market

• Speculators – They are the ones who constantly examine the price changes in the market and play a role in forecasting the future price of the commodity. For example, if a speculator thinks that the price of gold is going to rise then they will purchase a commodity future contract. If gold prices do move higher, then the trader will benefit when he sells it. If the price goes down, the trader will end up in a loss if he decides to sell. Normally, exiting from a bad position early is better than hoping to wait for the price to recover. 

In case of a short position, if a trader expects prices to fall he will sell a futures contract and will benefit if the price does go down. Once the price falls, speculators buy the contract again for a lower price than what they sold it for. 

• Hedgers – Those who manufacture the goods usually follow this type of trade. They hedge their risk by trading in the commodity futures market. Meaning they don’t want to face the loss of selling the product for a lower price in case the price of the commodity falls in the future. 
• Arbitrageurs – These are traders who take advantage of price differences between two different exchanges. Suppose if gold prices are moving higher in India but is flat in the American market, the trader would buy in the US and sell in India. He will off course take a position in the currency market to take care of the currency risk. 

Benefits of commodity trading

Diversified portfolio – Commodity returns aren’t related much to other assets in the stock market. Thus, being an individual asset class, commodities can be considered to diversify your investment portfolio. 

Inflation safeguard – Commodities are considered a good hedge against inflation as typically, their prices tend to rise during periods of high inflation and enable maintain purchasing power parity.

Hedging –  Stakeholders in a commodity have an avenue to hedge their position in the commodity market. A farmer would like to lock his price whenever the price rises, knowing fully well that during harvest season price normally falls on account of increased supply. Similarly, a baker would like to lock his price during harvest season when prices are low. The farmer would sell futures roughly while a baker would buy a futures contract to hedge their position. 

Disadvantages of Commodity trading

As with any product, commodity trading has a flip side too. 

• Commodities trading can be very volatile and lead to quick losses in a short span of time.
• Since it is concentrated in a few industries, it may not provide a strong diversification advantage.

Some things to keep in mind

• Just like stocks, there are many factors involved in the price changes in the commodity market. Hence it is important that you do proper research before investing in the commodities market.
• While there is higher leverage in commodity trading, there are equally high risks in the market as well.
• If you are new to commodity, it is advised to take the help of those who are experienced and can guide you to do better trading and help you keep a tab on the market.

In conclusion

Trading in the commodity market is a great way to tackle inflation as the cost of commodities when inflation rises. However, they are equally prone to high risk as well. Despite all this, the commodity markets have grown over 120 times since the launch of electronic trading in 2003 and provide excellent opportunities to create wealth in your portfolio.